One of the forgotten tragedies of World War II was a precipitous
declines in the quality of candy. With government rationing of sugar,
cocoa, and other key ingredients, many candy firms used cheap
substitutes, and made windfall profits. But the people who walked into
Fannie May shops in Chicago got the real thing: pure delectable candy.
The company's owners decided that instead of adulterating their
product they would simply sell less of it and make less money.

It was not the first, or the last, time Fannie May Candy Shops,
Inc. skipped a chance to get fat. The company has, for example, always
stayed away from making candy for others to sell under different brand
names. "We have no idea what they might be doing with the product
once it's out the door,' Richard Peritz, the firm's
presient, told The Chicago Tribune. A longstanding refusal to use
preservatives meant Fannie May could expand only slowly to ensure
delivery of fresh merchandise weekly to company-owned shops.
"We're not desperate to do business at any cost,' says
Peritz.

Fannie May can operate this way because it is privately owned and
thus free of the pressures to pursue profits that the stock market
imposes on companies whose shares trade publicly. Most private business
owners, of course, do not purposely avoid profit opportunities. But the
fact that they can is an underappreciated freedom. Private business
owners are also freer to pursue worthwhile ventures aggressively, even
if it means large short-term sacrifices. Most important, they can spend
every penny of company profits as they see fit: on higher wages and
benefits, on philanthropy, on research for new and better products and
services, or on new equipment that is more efficient, safer to work
with, and easier on the environment.

This is no small privilege, considering their impact on the
country. One hundred and seventy-five of the Fortune 500 companies are
family owned or controlled; privately owned firms of 100 or more
employees make up one-fifth of the U.S. economy. While corporate
reformers talk about shareholder democracy, management accountability,
and other issues involving publicly traded companies, privately held
companies are in the best position to create models of capitalism at its
best.

Betraying the faith

Taking a company public can be unavoidable if a firm needs capital
to expand and cannot secure it any other way. But the usual motivation
for going public is the self-interest of the owner. Turning a fixed
investment like a company into liquid assets by selling some or all of
it, then reinvesting the assets in diversified portfolios, has always
been the way to secure a life of leisured wealth.

The prospect to wealth, however, can be outweighed by the loss of
control. "When you go public and sell the majority of the firm,
you've essentially made the marketplace your partner,' says
Columbia University law professor John Coffee. "It's a very
finicky partner.' Decisions concerning ethics or the future health
of the company can upset Wall Street and drive a company's stock
price down. And there's nothing like a low stock price to put the
manager who wants to do the right thing on the defensive. His
proposals-- whether they are to reduce the plant's pollution
emissions, use sturdier materials in the product, or increase worker
salaries--can be voted down or his own position at the firm terminated
by a board of directors made skittish by worried investors. The
ultimate threat to his job, a corporate takeover, becomes likely when a
stock's price dips below the value of the firm's assets.

Wall Street isn't stupid; a share price is as good a measure
as any of a firm's long-term prospects. The financial markets will
reward a company for a long-term investment, like R&D spending, by
bidding up its share price, assuming such spending doesn't cut into
short-term earnings. But that's where the problem is. There are
innumerable occasions when a firm should sacrifice earnings now--even if
it means some red ink-- for future payoffs.

That's where private companies have the advantage, if they
choose to use it. Without shareholder demands on company earnings, the
owner-manager can spend those earnings on what's best for the firm
and its customers and employees. Why should a public company executive
risk his job by plowing money into new plants and equipment to make
products that may or may not sell as well as those made in Japan, when
he can sell existing plants, buy an insurance company, and give his
stockholders all-but-guaranteed returns? This is one reason privately
held companies often thrive in industries public companies have
abandoned. Perhaps the brightest spot in America's otherwise
dismal machine tool industry, for instance, is the privately held
Ingersoll Milling Machine Co. of Rockford, Illinois, one of the most
prosperous and technologically up-to-date machine tool manufacturers in
the world.

A public corporation manager has more than his job on the line when
making decisions on the crucial trade-offs between his company, his
conscience, and his shareholders. A manager who fails to convince
shareholders that he acted to enhance the long-term value of their
investments can be sued for "waste and dissipation' of a
firm's assets. The "business judgment' rule in corporate
case law gives managers and directors great leeway in deciding how the
interests of the shareholders are served. But the fear of such lawsuits
quietly fences in the range of the public company manager's
options. One could make a good case, for instance, that AT&T would
best serve itself and the nation by slashing its dividends and devoting
the money to R&D. But "if AT&T did that,' says
Georgetown University law professor Donald Schwartz, "it would be a
betrayal of faith to the millions of investors who have historically
depended on those dividends. The money managers, out of fiduciary duty to those investors, could sue, and I think they'd win.'

Taking a gamble

"About ten years ago I did a survey of business owners who
have taken their firms public,' recalls Amar Bose, a professor of
engineering at the Massachusets Institute of Technology, who also owns
and runs the Bose Corporation, manufacturer of high fidelity equipment.
"One of the things I found that was common to each and every one
was the almost unimaginable time they spent--sometimes 25 to 30 percent
of their day--maintaining the image of the company.'

When the owner-manager goes public, he becomes as much PR man and
politician as entreprenuer. There is suddenly a vast constituency of
interested parties--directors, securities analysts, institutional
investors, members of the trade and business press--to whom he must
justify his decisions, for whom he must constantly be putting the best
face on quarterly earnings reports. Not playing to this audience means
risking a dip in the company's share price, which managers rightly
fear. All those Archer Daniels Midland ads on television aren't
meant to get Joe Sixpack to rush out and buy grain; ADM sells only by
the bargeload. The ads serve only to keep the company's stock
price buoyant by promoting ADM's success in the agricultural
products business. You will not see ads for Cargill, ADM's
privately held competitor.

Keeping share prices up by fielding the questions of analysts,
investors, and business newsmen was not Amar Bose's idea of fun.
"I for one am not prepared to spend 25 percent of my time doing PR.
I'd rather do research,' he says. Those who have never been
entreprenuers or worked for them may not understand, but a major reason
many people start businesses is to do the kind of work they like. For
Bose, and for the star MIT students he brought into the company with
him, doing cutting-edge, scientific research of high fidelity
technology, then incorporating the findings into state-of-the-art
equipment, was at least as big an attraction as the money to be made.
The passion for research paid off in critically acclaimed equipment.
For teenage audiophiles in the seventies, having enough disposable
income to afford Bose speakers was an incentive to grow up.

Despite the success, Bose has good reason to believe his firm would
not have survived as a research-oriented organization had its shares
traded publicly. In 1979, Bose began sinking money into developing a
line of American-built car stereos for General Motors to offer as
optional equipment. It was a big gamble. He had no contract from GM,
nor had GM ever offered such a non-cosmetic option on its cars. It was
also bad timing; the recession that hit months later decimated sales at
Bose and throughout the industry.

Managers at almost any publicly traded company would have cut the
project to boost earnings. Bose kept millions in R&D money flowing.
In 1982, Bose Corporation went into the red for the first time in its
history. This led a bank that had been providing the firm with credit
to pull its financing. Had the company been publicly traded, Bose told
INC. magazine, "I certainly would have lost my job.' Today,
Bose car stereos, which GM now offers as optional equipment, make up
more than 20 percent of Bose Corporation sales.

Textile tenderness

The dream of running a wonderful company that makes top-notch
products and is a pleasure to work for is apparently not behind the
latest trend in corporate "privatization': the leveraged
buy-out (LBO), in which managers borrow money to buy the outstanding
shares of the companies they work for, using the company itself as
collateral. Most managers who engage in these buy-outs eventually plan
to take their companies public again, at huge profits to themselves.
They justify their windfalls by saying they are being rewarded for
making the tough decisions, which usually involve plant closings and
massive layoffs. A good many of these closings are necessary to save
the companies involved. But these managers are usually far too busy
dreaming about the seven-figure "rewards' they're going
to get to put much effort into easing the suffering of the employees who
are affected by their "tough decisions.'

The case of Levi Strauss & Co.--the world's largest
garment manufacturer--is an instructive exception. In 1971 Robert Hass,
CEO and greatgreat-grandnephew of the famous blue jean maker, took the
family-owned company public. As long as sales grew, which they did
throughout the seventies, Wall Street was happy, and Hass, who, with his
family, had kept 40 percent of the stock, retained general control over
company policy.

Keeping control was important to Hass; he had a reputation to
protect. Levi Strauss had long been singled out as a model of corporate
responsibility. When the 1906 San Francisco earthquake destroyed
Levi's plant, as well as much of the city, the company took out
newspaper ads to let its employees know their paychecks were coming.
Levi racially integrated its plants long before the law forced other
manufacturers to do so. Levi employees--85 percent of whom are women--
have historically received pay, benefits, and profit sharing far above
the industry average. And it has a record of corporate philanthropy
that should put other firms to shame, devoting 2.3 percent of its pretax
earnings to charities and employee-run community volunteer programs--
triple the corporate average.

But in 1984, sales dropped 8 percent, the company's share
price followed, and the specter of a takeover loomed. The company would
have to close plants to survive. In order, said Haas, not to lose the
company's "important values and traditions' and to make
difficult decisions without worrying about Wall Street's reaction,
the family borrowed $1.7 billion to buy its shares back. To pay off the
debt, Hass sold off companies Levi had acquired while it was public.

Now fully in charge, Hass went about the dirty business of
"downsizing' a company that had too much capacity to survive,
with a consideration for affected workers that is rare in corporate
America, especially in the textile industry. Workers got three
months' advance notice (a relatively rare phenomenon) that their
plants would be closing, priority in hiring at other Levi Strauss
plants, and financial help in moving if they chose to take the new jobs.
Seventy-five hundred couldn't or wouldn't move; most were
women working at plants in small or midsized southern towns. For these
employees, Levi Strauss provided up to a year's extended medical
benefits as well as intensive job retraining and outplacement services.
What's more, the company kept up its philanthropic commitments.
Today, the Hass family could tender their shares for a huge profit. Few
if any analysts, however, think they will.

Levi Strauss is an exceptional company. It's safe to presume
that most private business owners wouldn't choose to go the extra
mile in this way. Indeed, plenty of other private businesses use their
freedom for socially irresponsible ends. Because the Securities and
Exchange Commission doesn't require them to disclose financial data
as publicly traded companies must, private businesses find dodging the
tax man a lot easier. But if private companies can be worse than public
companies, they also have the freedom to be better--and kinder.

It is the freedom to be exceptional that makes running a private
company appealing. Public corporation executives often convince their
directors and shareholders of the PR value of giving small percentages
of their earnings to good causes like charities. They could never get
away--to take an extreme example--with giving all the company's
profits to charity, as actor Paul Newman has done with his salad
dressing company. Family-run newspapers that spend a large portion of
their earnings on expensive foreign bureaus and teams of investigative
reporters, or that forgo revenue by not accepting cigarette ads, may be
less profitable than papers owned by publicly traded conglomerates that
don't make such sacrifices to quality or ethics. But they are
assets to America and sources of pride to their owners.

Putting concerns like product quality above profits doesn't
have to mean forfeiting prosperity. Being sheltered from the stock
market's discipline certainly hasn't turned Fannie May into a
charity case--though it is very nearly a civic institution to sweet
tooths in Chicago. The firm is in fact thriving; it is the
midwest's largest candy chain, with 215 shops in 11 states and the
District of Columbia. "Fannie May is a very successful regional
company,' remarks Lisbeth Echeandia, publisher of Confectioner.
"They have d down-home, all-American image and very loyal
customers. Their prices are extremely reasonable. In terms of product
and positioning in the market, I'd say they're
excellent.'

The prospect of selling the company is now its biggest temptation.
"I can't count the number of times people we know and
aquisitions brokers call about selling,' says Peritz. The
firm's answer, says vice president of sales Jack Barber, is always
the same: "Absolutely not. There is neither the intention, nor the
desire to take the company public. You lose too much control.'

COPYRIGHT 1987 Washington Monthly Company
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